[Solution] Managerial ACCT Week 5 - Chapter 5 PDF

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Tutor/Lecturer: Syrus - These documents will come in handy for Semester 2 2018 and Semester 1 2019 students ...

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Week 5 Lecture 5 – Chapter 5: Cost-Volume-Profit Analysis

Questions

Question 1: What is meant by a product’s contribution margin ratio? How is this ratio useful in planning business operations? The contribution margin ratio shows how the contribution margin will be affected by a change in total sales. For example if a companies CM ratio is 50%, this means that for each dollar increase in sales total contribution margin will increase by 50 cents, assuming that fixed cost are unaffected the increase in sales.

Question 4: What is meant by the term operating leverage? Operating Leverage: 

Operating leverage is a measure of how sensitive net operating income is to a given percentage change in dollar sales. The degree of operating leverage at a given level of sales is computed by dividing the contribution margin at that level of sales by the net operating income.

Question 5: What is meant by the term break-even point? Break-even point: 

The break-even point is the level of sales at which profits are zero. It can also be defined as the point where total revenue equals total cost, and as the point where total contribution margin equals total fixed cost.

Question 7: What is meant by the margin of safety? Margin of safety: 

The margin of safety is the excess of budgeted (or actual) sales over the break-even volume of sales. It states the amount by which sales can drop before losses begin to be incurred.

Exercises

Question 1: Whirly Corporation’s most recent income statement is shown below:

Required: Prepare a new contribution format income statement under each of the following conditions (consider each case independently): 1. The sales volume increases by 100 units. 2. The sales volume decreases by 100 units. 3. The sales volume is 9,000 units.

Contribution format income statements 

This statement is used for identifying net operating income in terms of fixed and variable cost behaviors. It helps the managers in decision making, planning and controlling the internal affairs. Here the contribution approach divides cost into two categories such as fixed and variable cost.

Part One Prepare contribution format income statement if sales units increases by 100 units.

Working Notes: It is given that the sales unit is 10,000, increasing sales unit is 100, price per unit is $35, variable cost per unit is $20, and fixed expense is $135,000.

Part Two Prepare contribution format income statement if sales units decreases by 100 units.

Working Notes: It is given that the sales unit is 10,000, decreasing sales unit is 100, price per unit is $35, variable cost per unit is $20, and fixed expense is $135,000.

Part Three Prepare contribution format income statement if sales units is 9,000 units.

Working Notes: It is given that the sales unit is 9,000, price per unit is $35, variable cost per unit is $20, and fixed expense is $135,000.

Question 5: Data for Hermann Corporation are shown below:

Fixed expenses are $30,000 per month and the company is selling 2,000 units per month.

Required: 1. The marketing manager argues that a $5,000 increase in the monthly advertising budget would increase monthly sales by $9,000. Should the advertising budget be increased? 2. Refer to the original data. Management is considering using higher-quality components that would increase the variable expense by $2 per unit. The marketing manager believes that the higher-quality product would increase sales by 10% per month. Should the higher-quality components be used?

Variable costs: 

Variable costs are the total costs that changes with the change in level of activity. Variable costs are directly proportional to the level of activity. It means that the variable cost per unit does not change but the total

variable costs changes with the level of activity. These are deducted from the sales to calculate the contribution margin.

Fixed costs: 

Fixed costs remain constant in total amount over a specific range of activity, these do not increase or decrease when the volume of manufacture changes. Fixed cost per unit is inversely proportional to the level of activity. These fixed costs are deducted from the contribution margin to calculate the net operating income.

Contribution margin: 

Contribution margin is the profit earned for each unit sold. It is calculated by deducting variable costs of the product from the sales generated by that product. Net operating income or loss is calculated by deducting fixed costs from the contribution margin.

Net Operating Income/Loss:  Net Operating Income/ (Loss) is the amount earned through operating activities of the business. It is calculated by reducing the fixed costs from the contribution margin. The excess of contribution margin over the fixed costs is termed as net operating income. The excess of fixed costs over the contribution margin is termed as net operating loss

Part One Calculate the change in net operating income as shown below:

Part Two Calculate the change in contribution margin as shown below:

Note: Calculate the expected number of units of sale as shown below:

Question 6: Mauro Products distributes a single product, a woven basket whose selling price is $15 and whose variable expense is $12 per unit. The company’s monthly fixed expense is $4,200.

Required: 1. Solve for the company’s break-even point in unit sales using the equation method.

2. Solve for the company’s break-even point in dollar sales using the equation method and the CM ratio. 3. Solve for the company’s break-even point in unit sales using the formula method. 4. Solve for the company’s break-even point in dollar sales using the formula method and the CM ratio.

Part One Calculate breakeven sales unit by equation method:

Part Two Calculate breakeven sales value by equation method:

Part Three Breakeven sales unit is calculated below:

Part Four Breakeven sales value is calculated below:

Question 7: Lin Corporation has a single product whose selling price is $120 and whose variable expense is $80 per unit. The company’s monthly fixed expense is $50,000. Required:

1. Using the equation method, solve for the unit sales that are required to earn a target profit of $10,000. 2. Using the formula method, solve for the unit sales that are required to earn a target profit of $15,000

The Equation Method: 

To calculate the break-even point (in unit sales and dollar sales) managers can use either of two approaches, the equation method or the formula method.

Part One Calculate unit sales to achieve $10,000 profit by using the equation method Selling price per unit is $120, variable expense per unit is $80, profit is $10,000, and fixed cost is $50,000. Calculate unit sales by using the equation method.

Part Two Calculate the unit sales that are required to earn a target profit of $15,000 The target profit is $15,000, fixed cost is $50,000, selling price per unit is $120, and variable cost per unit is $80. Calculate Unit sales can be calculated by using the formula method as follows:

Question 8: Molander Corporation is a distributor of a sun umbrella used at resort hotels. Data concerning the next month’s budget appear below:

Required:

1. Compute the company’s margin of safety. 2. Compute the company’s margin of safety as a percentage of its sales.

Part One Value of Margin of Safety is calculated below:

Part Two Margin of Safety Percentage is calculated below:

Question 10: Lucido Products markets two computer games: Claimjumper and Makeover. A contribution format income statement for a recent month for the two games appears below:

Required: 1. Compute the overall contribution margin (CM) ratio for the company. 2. Compute the overall break-even point for the company in dollar sales. 3. Verify the overall break-even point for the company by constructing a contribution format income statement showing the appropriate levels of sales for the two products.

Part One Overall contribution margin ratio is calculated below: It is given that the total contribution margin is 30,000, and total sales are 100,000.

Part Two Overall breakeven sales value is calculated below: It is given that the overall fixed expense is 24,000 and overall contribution margin ratio is 0.3.

Part Three Breakeven sales for CJ are calculated below: It is given that overall break even value is 80,000, sales of CJ are 30,000, and total sales are 100,000.

Breakeven sales for MO are calculated as below: It is given that the overall break even value 80,000, sales of MO is 70,000, and total sales are 100,000.

Variable expense for CJ is calculated below: It is given that the breakeven sales of CJ are 24,000, total sales of CJ are 30,000, and contribution margin is 10,000.

Variable expense for MO is calculated below: It is given that the breakeven sales of MO are 56,000, total sales of MO are 70,000, and contribution margin of MO is 20,000.

Contribution income statement is shown below:

Question 12:

Olongapo Sports Corporation distributes two premium golf balls—the Flight Dynamic and the Sure Shot. Monthly sales and the contribution margin ratios for the two products follow:

Fixed expenses total $183,750 per month.

Required: 1. Prepare a contribution format income statement for the company as a whole. Carry computations to one decimal place. 2. Compute the break-even point for the company based on the current sales mix. 3. If sales increase by $100,000 a month, by how much would you expect net operating income to increase? What are your assumptions?

Part One Variable expense can be calculated using below formula:

Contribution margin can be calculated using below formula:

Contribution margin ratio can be calculated using below formula:

Contribution income statement: Contribution income statement shows the value of variable expense, contribution margin by using Equation (1), (2) and (3).

Part Two Breakeven point sales value:

Part Three. Change in net operating income:

Question 13: Miller Company’s most recent contribution format income statement is shown below:

Required: Prepare a new contribution format income statement under each of the following conditions (consider each case independently): 1. The number of units sold increases by 15%. 2. The selling price decreases by $1.50 per unit, and the number of units sold increases by 25%. 3. The selling price increases by $1.50 per unit, fixed expenses increase by $20,000, and the number of units sold decreases by 5%. 4. The selling price increases by 12%, variable expenses increase by 60 cents per unit, and the number of units sold decreases by 10%.

Contribution format income statements 

This statement is used for identifying net operating income in terms of fixed and variable cost behaviors. It helps the managers in decision making, planning and controlling the internal affairs. Here the contribution approach divides cost into two categories such as fixed and variable cost.

Part One Prepare contribution format income statement if sales units increases by 15%.

Working Notes: Calculate total sales value.

Calculate variable expenses value.

Part Two Prepare contribution format income statement if sales units increases by 25% and selling price decreases by $1.50 per unit.

Working Notes: Calculate sales value.

Calculate variable expenses value.

Part Three Prepare contribution format income statement if sales units decreases by 5%, selling price increases by $1.50 per unit, and fixed expenses increases by $20,000.

Working Notes: Calculate total sales value.

Calculate variable expenses value.

Part Four Prepare contribution format income statement if sales units decreases by 10%, selling price increases by 12%, and variable expenses increase by $0.60 per unit.

Working Notes: Calculate sales value.

Calculate variable expenses value.

Question 15: Magic Realm, Inc., has developed a new fantasy board game. The company sold 15,000 games last year at a selling price of $20 per game. Fixed expenses associated with the game total $182,000 per year, and variable expenses are $6 per game. Production of the game is entrusted to a printing contractor. Variable expenses consist mostly of payments to this contractor.

Required: 1. Prepare a contribution format income statement for the game last year and compute the degree of operating leverage. 2. Management is confident that the company can sell 18,000 games next year (an increase of 3,000 games, or 20%, over last year). Compute: a) The expected percentage increase in net operating income for next year. b) The expected total dollar net operating income for next year. (Do not prepare an income statement; use the degree of operating leverage to compute your answer.)

Operating leverage 

Operating leverage is a measure that express a company’s fixed cost as a percentage of its total costs. It is used to evaluate the breakeven point (no profit no loss) and the estimated profits on individual sales.

Part One Calculation of total sales value is given below:

Calculation of variable expense is given below:

Calculation of Contribution income statement is given below:

Calculation of degree of operating leverage is given below: It is given that the contribution margin is $210,000, and net operating income is $28,000

Part Two The expected percentage increase in net operating income for next year is given below:

Calculation of net operating income for the next year is given below: It is given that the present year net operating income is$28,000, degree of leverage is $7.5 times, and increasing percentage of sales unit is:

Question 16: The Hartford Symphony Guild is planning its annual dinner-dance. The dinnerdance committee has assembled the following expected costs for the event:

The committee members would like to charge $35 per person for the evening’s activities.

Required: 1. Compute the break-even point for the dinner-dance (in terms of the number of persons who must attend). 2. Assume that last year only 300 persons attended the dinner-dance. If the same number attend this year, what price per ticket must be charged in order to break even? 3. Refer to the original data ($35 ticket price per person). Prepare a CVP graph for the dinnerdance from zero tickets up to 600 tickets sold.

Part One Calculation of breakeven sales unit is given below: It is given that the price is $35, dinner is $18, favor and program per person is$2, and fixed cost is $6,000

Part Two

Calculation of ticket price for breakeven is given below: It is given that the dinner is $18, favor and program is $2, fixed cost is $6,000, and the number of people attend is 300

Part Three The graphical representation of cost volume profit is given below:

In figure 1, vertical axis measures price and cost. Horizontal axis measures sales unit. Line FE represents fixed expense. Line TE represents total expense and TSR line represents total sales revenue. Since fixed cost does not change regarding production, it is parallel to the horizontal line and tangent to the vertical line at $6,000. Total expense starts from the vertical line $6,000 and passes through the point of cost level $14,000 at the 400 sales units. Total sales revenue starts from the Origin and passes through the same point...